The Rental Alternative to Foreclosure

FOR homeowners who have been buffeted about by the foreclosure process, the suggestion that they willingly hand their deed to the lender and rent the home instead may only add insult to injury.

But such an alternative to foreclosure — variously called “deed for lease” or “mortgage to lease” — is an option for a select few. Fannie Mae introduced a rent-back program in 2009, and this year, both Bank of America and CitiMortgage announced that they would try a similar approach in a handful of markets.

The programs are basically an extension of what’s known as “deed in lieu of foreclosure.” In this process, the lender agrees not to foreclose if the homeowners simply hand over the deed to their property.

The new element is a rental option: after relinquishing the deed, homeowners who meet certain requirements may sign a lease to stay on as renters for one to three years (depending on the lender).

This alternative may be ideal for families seeking to weather the unpredictability of the foreclosure process, and who want to keep their children in the same school district, said Dean Baker, a co-director of the Center for Economic and Policy Research.

Mr. Baker says he began pushing for this approach when the market first collapsed five years ago because he views it as both simpler and less politically controversial than loan modifications and write-downs. “It doesn’t cost the government anything, it doesn’t require a lot of bureaucracy, and it doesn’t raise some of the moral-hazard issues that come up with other programs,” he said.

Borrowers benefit because a deed-in-lieu looks better than a foreclosure on a credit report, and outstanding mortgage debt is forgiven.

Mr. Baker estimates that homeowners who bought at the peak of the housing bubble in the New York area could save, on average, $1,200 a month by renting instead of paying the mortgage and other related expenses.

The main problem, as with all foreclosure alternatives, is whether an applicant qualifies. As acknowledged by Andrew Wilson, a spokesman for Fannie Mae, the agency’s “Deed-for-Lease,” or D4L, option has not been widely utilized.

Applicants may not be more than 11 payments past due on their mortgage, and must be able to pay fair-market rent without spending more than 31 percent of their gross income. Properties with second mortgages are ineligible, as are properties in areas where zoning or homeowners’ associations prohibit rentals. The condition of the property is also a factor.

“I’m surprised they didn’t include a requirement that you give your firstborn,” said John Taylor, the president and chief executive of the National Community Reinvestment Coalition. “They should come back with something that’s not as restrictive.”

Bank of America is offering its “Mortgage to Lease” option to only about 2,500 preselected borrowers in New York, Nevada, Arizona and California. A company spokesman would not comment on how many customers had taken part in the program.

Citi’s “Home Rental Program,” announced just last month, applies to only 500 homeowners in Arizona, California, Texas, Florida, Nevada and Georgia.

Advocates for distressed borrowers say that even those who do qualify ought to be cautious. It may be more financially beneficial to ride out the lengthy foreclosure process living in their houses free and putting money aside, rather than working out a deal to pay rent, said Craig D. Robins, a bankruptcy and foreclosure defense lawyer working in Nassau and Suffolk Counties.

Homeowners who really want to stay in their homes should first exhaust all possibilities for a loan modification or principal reduction, Mr. Taylor said. Consulting with a housing counselor approved by the Department of Housing and Urban Development is advisable.

“A push to get people into rental should only be after all the other alternatives have been explored,” he said.

A version of this article appears in print on September 30, 2012, on page RE5 of the New York edition with the headline: To Rent What You Owned. Order Reprints|Today's Paper|Subscribe